EET may not hurt as much as you think

Shaji Vikraman and Hema Ramakrishnan, TNNDec 12, 2005, 01.35AM IST

MUMBAI/PUNE: For thousands of investors who have put money in a host of tax savings instruments, the transition to a proposed new taxation system, envisaged next fiscal, may not be as bad as they fear.

For an existing investor in tax savings instruments like Public Provident Fund, Employees Provident Fund, Equity Linked Savings Scheme and insurance products, the door may not yet be closed on the tax break front.

Investors could well be in a position to continue to put money in these instruments or schemes even after the introduction of the proposed new tax regime and still be in line to enjoy a tax break on the maturity proceeds.

This may be possible, provided they don't claim tax breaks for such instruments as they do now under Section 80C of the Income Tax Act.

Section 80C of the IT Act provides for a tax deduction of up to Rs 1 lakh annually on contributions towards specified schemes or investments. The expert committee on the new Exempt Exempt Tax (EET) system has made out a case for this in its recommendations to the government.

In the EET regime, proposed to be introduced by the government, only the final withdrawals will be taxed at the applicable tax bracket in which the investor falls. Under this system, all contributions and accumulations in investments or schemes notified by the government are not taxed.

Investors will be taxed only at the last stage ie on withdrawal. Such a system, it is reasoned, could go a long way in promoting long-term savings.

A transition to the EET regime would mark a departure from the current system of a tax exemption at all three stages of investment — contribution, accumulation and withdrawal for specified investments or schemes.

These include the Public Provident Fund, the Employees Provident Fund, Equity Linked Savings Scheme(ELSS), National Savings Scheme, Kisan Vikas Patra, Unit Linked Insurance Plan and other insurance plans and investments. The government has already said that the proposed tax system would only be with prospective effect. This would mean that all investments made prior to the introduction of the new taxation systems would not be taxed. In other words, investments made up to the end of this fiscal are set to fall outside the purview of this system.

With a bit of planning, an investor may also be in a position to lower tax liability by phasing out withdrawals or smoothening consumption needs.

What this means, is that instead of withdrawing the full maturity proceeds of tax savings schemes, the investor can lower his tax liability by staggering withdrawals or by smoothening consumption needs. What this means is that instead of taking out the entire maturity proceeds, the investor need withdraw only the amount which is required at that point of time, thus keeping his tax liability relatively low, say government sources. The rest of the proceeds can be reinvested in another designated instrument.

Logically, withdrawal of the proceeds either on maturity or prior are liable to be taxed at the applicable tax bracket in which an investor falls.

However, for instance, if an investor who has invested in PPF for ten years does not want to end up paying tax at the time of maturity of the scheme, he or she may opt not to claim a tax deduction on contributions after the EET system is unveiled. Similarly, if an individual has made an investment in a savings instrument before the introduction of EET and does not make any further contribution after the new tax regime, he will also escape paying tax.

In case, an investor wants to continue to invest in PPF for instance, post-EET and still claims tax deduction under Section 80C, he will be taxed on a proportionate basis at the time of withdrawal.